Representations and Warranties: Tips & Tricks
31 October 2016
by Filip De Schouwer
It is standard practice to include representations and warranties in share purchase agreements. They are crucial in assessing risk allocation between seller and purchaser. The list of representations and warranties can often be dozens of pages long, and require lengthy – and sometimes – exhausting negotiations. To make matters worse, the warranties are usually relegated to the annexes, which can lead to a frenzy of last-minute activity, often frustrating to all parties involved.
On occasion, lawyers can get bogged down in detail and spend hours debating a minor technicality regarding, for instance, administrative law. To retain an overview, we suggest focussing attention on a limited number of representations and warranties. If these particular clauses are clearly written, parties (or at least the purchaser) can be more lenient when debating the rest of the warranties.
First, special attention should be given to warranties regarding the target company’s financial accounts. Any default by the seller will often have ramifications on the financial accounts. This means that an accounts warranty offers a broad scope of protection to the purchaser (e.g. regarding the state of the company’s assets, actual and contingent liabilities, result of operations, payment of taxes, etc.).
Secondly, a purchaser should ensure that the share purchase agreement contains a warranty regarding the target company’s compliance with legal and regulatory obligations. This can really function as a catch-all provision for corporate, tax, environmental, labour, real estate, intellectual property issues, etc.
And thirdly, a purchaser should demand that the seller has fully disclosed any and all relevant information regarding the target company.
If a purchaser is able to insert the three “broad” warranties mentioned above, he significantly increases his chances of qualifying for indemnification, in case the seller defaults. Applying the Pareto principle (80% of the effects come from 20% of the causes), parties will then be able to negotiate much more efficiently, and avoid costly delays mulling over the detailed wording of minor warranties which will probably never be invoked.
That being said, the three broad warranties also have their limits and should always be completed with more detailed clauses on the basis of the nature of the activities of the target company, and the known risks (for instance, soil pollution in case of a petrol company). If the warranties are relatively detailed, it will be easier to convince a judge or arbitrator that a particular default should indeed be indemnified. So priority should be given to the three broad warranties, and to the warranties particularly relevant for the target company. A purchaser can then be more tolerant or relaxed in negotiating the remainder of the warranties.
For specific questions, you can reach out to the author of this article or to your regular contact person at Cresco.